Revenue Roulette

Is gambling a great source of revenue for states and localities, or a peril-filled recreation?

Guess who's number one in gaming revenue? No, it's not Nevada. That gambling-heavy state is a mere number three. It's Pennsylvania, whose nine operating casinos sent nearly $1.1 billion in taxes to Harrisburg last year.

Once Pennsylvania decided to go for the gambling bucks, it set rates high enough to bring in serious revenues. Its tax rate on slot winnings, for instance, is 55 percent, the third highest in the country after New York state's 65 percent and West Virginia's 57 percent. The rate-setting is a political freebie: You never hear a Tea Party supporter agitating about the government's unfair take on a winning hand at the blackjack table.

The bounty of gambling revenue is such that -- for those states that allow it -- it can quickly become addictive. But it also raises a host of questions: How stable are those revenues? Are they new dollars or just displacement of revenue from spending by state residents on other entertainments?

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Dave Swenson, an academic at Iowa State, has been keeping an eye on gaming and its fiscal effect on state and local governments -- in Iowa and elsewhere. He's seen the positive and the peril-filled sides of the story. Here are highlights of my interview with him:

Early Adapters

In the 1980s, I watched the initial introduction of Iowa's lottery, which was parlayed into Powerball and then became a multistate consortium designed to greatly increase playership. Those games were born on the heels of paltry revenue collections during an extended period of economic stress. There was a terrible recession at the time. In the Midwest, that downturn was compounded by the end of the agricultural-land bubble. The state's fiscal conditions were strained. Lotteries were a short-term fix -- a way of saying, "See, we didn't have to raise taxes to get the revenue." Folks thought they were being creative, that they were on the leading edge of government revenue and in many ways they were.

In the Midwest and in South Dakota as well, the lotteries were followed by a move to expand to low-stakes, recreational gambling. South Dakota passed a law allowing the town of Deadwood to offer up what was basically miniature, Reno-style gambling. It transformed Deadwood. Iowa then began to think of two other ways to expand gaming: animal racing -- dogs and horses -- and riverboat gambling. Riverboat excursions on the Mississippi River were pitched as economic development because the state would be able to draw people from Illinois and Wisconsin to the boats. The boats, which had limited-stakes gambling, became an important source of revenue, especially when the other alternative -- animal racing -- failed to post a profit. Folks in Iowa then argued for expansion of casinos inland. They put casinos at the sites of failing animal racing operations to keep them afloat.

Saturation Point

Gambling has become lucrative. But the continued expansion of gaming in the interior of the state -- well, it's really hard to make the case that a gambling site so far way away from the borders is economic development. If it's in an area where you can get other people to pay your taxes, it can pay off. But if all you're doing is shifting from other consumer goods into casinos, you're not really enhancing the tax base. Inland gaming simply robs consumption from other forms of recreation or other consumer spending. Iowa has now saturated its ability to generate revenue from gaming. Even so, several struggling communities made pitches to expand the number of licenses. The state only licensed one. It's located a mile from the border near Sioux Falls -- to capture South Dakotans from that metro area.

The Competitive Factor

As we get more regional competition -- in Illinois and Missouri, and on Native American reservations in Minnesota -- those sites limit Iowa's monopoly status. If Iowa can put a casino on a river, that gives it a spatial monopoly, but if a Native American group builds a casino 20 miles away in Wisconsin, all of a sudden the monopoly is gone. Gaming is now a competitive business. There are spikes in revenue receipts, and then it levels off.

The Good and the Bad about Gaming

In the Midwest, we have the ability to say we're enhancing the economy with gaming receipts -- without calling it a tax. Gaming is sold as an enhancement of local government revenue.

The big hurdle to overcome [in bringing gaming to a state or locality] is getting it shoved down the throats of those who feel it's evil. There tend to be two nodes of opposition: Conservatives say gaming ought not be the role of the state; Progressives say these institutions prey on the most vulnerable -- the elderly and low-income people. Those left and right nodes are compatible and their unity tries to fight gaming. Still, the business community and chambers of commerce are big leaders and pushers. It's somewhat ironic, because if gaming comes to your area, it creates stress and a shift from other retailers and service providers. Yet regional chambers see them -- mistakenly -- as tourism draws. They push for gaming because short-term gains are all that matter.

There is an issue about chronic gamblers -- people for whom gaming is not an excursion but an addiction. That tends to get concentrated in the host state. Even casinos on our borders have a huge fraction of visitorship from citizens on our side of the border. So we have trade-offs that have to be acknowledged but that are not well discussed.

The Tax Rate Debate

I haven't heard a debate about the rate at which the state taxes gaming -- except in so far as it impinges on casino profitability. You don't want to set the rate so high that casinos will squeal, that they'll see your state as not worth the risk to operate in. The rate-setting ends up being a delicate dance around what the prevailing regional rate is. You don't want to stand out too much.

The High Cost of Gaming

With gaming, the state incurs increased costs. States have to hire revenue agents and criminal investigation agents to staff every one of these places to make sure they are on the up and up. The lottery has issues -- there can be point of sale tomfoolery -- but in general it is an automated process. You can monitor misbehavior using statistical methods, but you can't do that with a casino. Even a minor cheat can yield someone a tremendous amount of money. Enforcement and auditors have to engage on a daily basis at every one of these operations. This is an issue not talked about much. But indeed, monitoring and oversight are critical. When you want to know the net from allowing gambling, you have to look at gross revenue relative to increments in regulatory costs. I have no idea what that is in Iowa.